Newsletter

GENA HESTER, E.A.

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GH Newsletter Feb. 2024

Estimated Tax Penalties

The United States has a “pay as you go” tax system in which payments for income tax (and, where applicable, Social Security and Medicare taxes) must be made to the IRS throughout the year as income is earned, whether through withholding, by making estimated tax payments, or both.

You suffer an estimated tax penalty if you don’t pay enough to the IRS during the year. 

The IRS levies this non-deductible interest penalty on the amount you underpaid each quarter. The penalty rate equals the short-term interest rate plus three percentage points.

Due to the rise in interest rates, the current penalty rate is 8 percent—the highest in 17 years. And since it’s not deductible, the net cost likely far exceeds 8 percent.

If you are an employee and have all the tax you owe withheld by your employer, you don’t have to worry about this penalty.

But you must worry about it if you’re self-employed, because no one withholds taxes from your business income. Likewise, you must worry if you receive income from which no, or not enough, tax is withheld—for example, retirement distributions, dividends, interest, capital gains, rents, and royalties.

C corporations are also subject to the underpayment of estimated tax penalty. Fortunately, it’s easy to avoid this penalty!

All individual taxpayers have to do is pay (1) 90 percent of the total tax due for the current year or (2) 100 percent of the total tax paid the previous year (110 percent for higher-income taxpayers with adjusted gross income of more than $150,000 ($75,000 for married couples filing separately). 

Corporations must pay 100 percent of the tax shown on their return for the current or preceding year (but large corporations can’t use the prior year).

Most individuals and corporations make equal quarterly estimated tax payments to the IRS. The IRS applies the penalty separately for each payment period. Thus, you can’t reduce the penalty for one period by increasing your estimated tax payments for a later period. This is true even if you’re due a refund when you file your tax return.

Some individuals and corporations can use alternate methods for computing estimated taxes, such as the annualized income method. But the alternate methods can be complicated.

The IRS Annual Dirty Dozen List

Have you heard about the enormous tax savings you can reap by investing in a Maltese individual retirement arrangement or utilizing Puerto Rican captive insurance for your business? Before you invest your hard-earned money in these or other highly promoted tax schemes, you should check the IRS Dirty Dozen list.

For over 20 years, the IRS has issued an annual Dirty Dozen list identifying tax scams and avoidance schemes. This year’s list includes everything from employee retention credit claims to the use of fake charities.

Some items on the Dirty Dozen list involve fraud, such as identity theft through “spearphishing.” Other items involve tax credits or deductions, such as conservation easements, that can be legitimate but have been prone to abuse by taxpayers in the IRS’s view. 

The Dirty Dozen gives you red flags that trigger IRS scrutiny and can result in aggressive enforcement action against taxpayers who claim such deductions or credits and those who promote them.

When you see a new item on the Dirty Dozen list, especially if it’s at the top, you know it’s something the IRS is particularly interested in. A case in point is the employee retention credit (ERC). It didn’t make it to the list until 2023, and then the IRS placed it on the top. 

The top position tells you that combating fraudulent ERC claims is a high priority for the IRS. This doesn’t mean you should avoid claiming the ERC if you’re entitled to it. Just make sure you have all the necessary records in case of an audit.

As part of its Dirty Dozen awareness effort, the IRS encourages members of the public to report individuals who promote improper and abusive tax schemes as well as tax return preparers who deliberately prepare improper returns. The IRS also created an Office of Promoter Investigations in 2021 to identify and stop promoters and enablers of abusive tax avoidance transactions.

Employing a strategy or scheme on the Dirty Dozen list makes an audit more likely. It can also result in substantial tax penalties if an audit occurs and the IRS concludes that taxes were underpaid due to the use of the strategy. The fact that the strategy was on the Dirty Dozen list can make it difficult to avoid such penalties, which the IRS can impose on

• taxpayers
  
• tax preparers, and 
• promoters.

Taxpayers can avoid the accuracy-related penalty if they establish that they had reasonable cause for the underpayment and acted in good faith. But it is challenging, if not impossible, for taxpayers to demonstrate that they acted in good faith when they adopt a strategy or scheme listed in the IRS’s Dirty Dozen list.

Tax Implications of Selling Qualified Improvement Property (QIP)

You need to think about the sale of your rental property when you claim depreciation on your qualified improvement property (QIP). 

Gains may be subject to higher-than-expected tax rates due to Section 1245 and Section 1250 ordinary income recapture and other factors. Planning your depreciation methods can significantly impact your current tax liabilities and long-term taxable gains when you sell.

Do you own or are you thinking of owning an office building, a store, a warehouse, or a factory building?

Are you thinking of making improvements to the interior of this building?

If you make improvements to the interior that the tax law classifies as QIP, your commercial property now has three property components:

1. Land (non-depreciable)
   
2. Building (depreciated over 39 years using the straight-line method)
   
3. QIP (depreciated over 15 years using the straight-line method, but alternatively eligible for Section 179 expensing and bonus depreciation)

Technically, QIP means any improvement to an interior portion of a non-residential building (think offices, stores, factories, etc.) that is placed in service after the date the building is placed in service.

The exceptions are costs attributable to the enlargement of the building, any elevator or escalator, or the building’s internal structural framework.

QIP Deduction Choices

QIP is 15-year property eligible for deduction in three ways:

1. Straight-line depreciation using the IRS 15-year depreciation table
   
2. Section 179 expensing
   
3. Bonus depreciation (technically called “additional first-year depreciation” in the tax code)

You can use a combination of the above to deduct your QIP—except when bonus depreciation is 100 percent, because that uses 100 percent of your basis in the QIP.

Bonus Depreciation

Lawmakers are in the process of reinstating 100 percent bonus depreciation for 2022 and 2023.

Regardless of the bonus deduction percentage—60 percent, 80 percent, or 100 percent—the rules for taxing that deduction when you sell are the same.

The reason to claim the deduction is that it’s immediate. For example, let’s say you spend $120,000 on QIP. With 100 percent bonus depreciation, you deduct $120,000 the year you place the QIP in service.

Caution. Make sure the passive loss rules don’t limit the QIP bonus depreciation deduction.

When you sell the building that contained the QIP for which first-year bonus depreciation was claimed, gain—up to the excess of the bonus depreciation deduction over the depreciation calculated using the straight-line method—is considered additional depreciation for purposes of Section 1250 and is high-taxed ordinary income recapture.

Section 179 Expensing

When you sell QIP for which first-year Section 179 deductions were claimed, gain up to the amount of the Section 179 deductions is high-taxed Section 1245 ordinary income recapture.

Straight-Line Depreciation

If you opt for straight-line depreciation for real property, including QIP (that is, no first-year Section 179 deductions and no bonus depreciation), there won’t be any Section 1245 or Section 1250 ordinary income recapture.

Instead, you will have only unrecaptured Section 1250 gain from the depreciation, and that gain will be taxed at a federal rate of no more than 25 percent.

Planning for the QIP Deductions

As you see above, your QIP deduction is not what it appears on the surface. Regardless of how you deduct your QIP, immediately or over time, you have a deduction that turns into taxable income at the time of sale.

So, what to do? If you want the big deduction in the first year, go for it, but

• make sure you will realize that deduction—in other words, make sure the passive-loss rules don’t deny or defer that deduction; and
  
• make sure you consider what is going to happen in the year you plan to sell the property.

Please feel free to discuss any questions you may have.

Cell (909) 261-9185

Email: genahester@verizon.net

Thank you for your interest!

GH Newsletter Mar. 2024

IRAs for Young Adults

As we navigate the complexities of financial planning, one opportunity stands out for young adults: individual retirement accounts (IRAs). With the 2023 tax-year contributions deadline fast approaching on April 15, 2024, now is the perfect time to consider how you can leverage an IRA.

Traditional and Roth IRAs: A Brief Overview

Both traditional and Roth IRAs offer unique benefits, so the choice between them largely depends on your current financial situation and future expectations. For the 2023 tax year, you can contribute up to $6,500 or your earned income for the year, whichever is less. This cap increases to $7,000 for the 2024 tax year.



Traditional IRAs provide the potential for tax-deductible contributions, which can be particularly advantageous if you’re looking for immediate tax relief. The deductibility of your contributions may phase out based on your income and whether you’re covered by a workplace retirement plan. It’s also important to note that withdrawals from traditional IRAs are taxable, and early withdrawals may incur penalties.

On the other hand, Roth IRAs offer tax-free growth and tax-free withdrawals in retirement. Although contributions are not tax-deductible, the tax-free withdrawal benefit in retirement can be significant, especially if you expect to be in a higher tax bracket then. Additionally, Roth IRAs do not require minimum distributions during your lifetime, offering more flexibility in retirement planning.

Key Considerations for Young Adults

Income limits and phaseouts. Be mindful of the income-based phaseout ranges that may affect your ability to contribute to Roth IRAs or deduct traditional IRA contributions.

Tax bracket considerations. Your current and expected future tax brackets are critical in deciding between traditional and Roth IRAs. If you anticipate being in a higher tax bracket in retirement, Roth IRAs may offer greater benefits.



Flexibility and future planning. Roth IRAs provide significant flexibility, allowing for tax-free and penalty-free withdrawals of contributions and offering benefits to your heirs.

The Power of Early Contributions

If you can start your IRA contributions while young, you can significantly impact your retirement savings. Even modest annual contributions can grow substantially over time, thanks to the power of compounding.

Get up to $32,220 in Sick and Family Leave Tax Credits 

If you are self-employed or operate a small corporation, it’s likely that you have not applied for your sick and family leave tax credits.

If that’s the case, we will need you to get your act together so we can file amended 2021 and 2020 tax returns now. You could find up to $32,220 in tax credits. 

To see if you qualify for the credits, ask yourself if you were unable to work or perform services from April 1, 2021, through September 30, 2021, on any day, for one or more of the following reasons: 

1. You were subject to a federal, state, or local quarantine or isolation order related to COVID-19.
   
2. You were advised by a health care provider to self-quarantine due to concerns related to COVID-19.
   
3. You were experiencing symptoms of COVID-19 and seeking a medical diagnosis of COVID-19.
   
4. You were seeking or awaiting the results of a diagnostic test for, or a medical diagnosis of, COVID-19.
5. You were exposed to COVID-19 or were unable to work pending the results of a test or diagnosis.
6. You were obtaining immunization related to COVID-19.
   
7. You were recovering from any injury, disability, illness, or condition related to such immunization.
   
8. You were caring for an individual who was subject to a federal, state, or local quarantine or isolation order related to COVID-19.
   
9. You were caring for an individual who had been advised by a health care provider to self-quarantine due to concerns related to COVID-19.
   
10. You were caring for your son or daughter because the school or place of care for that child was closed, or because the childcare provider for that child was unavailable, due to COVID-19 precautions.
    
11. You were accompanying an individual to obtain immunization related to COVID-19.
    
12. You were caring for an individual who was recovering from any injury, disability, illness, or condition related to the immunization.

If you answered yes to any of these 12 questions, you qualify for tax credits. And depending on the number of qualifying days and your income, such credits could total $32,220 just for you. There’s much to this.

New Crypto Tax Reporting Rules Are Coming Soon

If you invest or trade in Bitcoin, non-fungible tokens (NFTs), Stablecoins, or other digital assets, prepare for sweeping new tax reporting requirements.

Congress wants the IRS to crack down on taxpayers who buy and sell crypto but don’t report or pay tax on their gains. To do so, it wants people and companies that facilitate the sale of digital assets to provide the IRS with the same information that stockbrokers must provide when selling stocks and other investments.

Crypto is complicated, so it has taken the IRS two years to draft over 280 pages of proposed regulations explaining how these new reporting requirements should work.

Starting with the 2025 tax year (which is just around the corner), digital asset brokers must file a new Form 1099-DA with the IRS whenever they facilitate the sale of digital assets. The 1099-DA will include such information as the customer name and TIN, sales proceeds, tax basis, and gains and losses.

“Digital asset” is defined broadly to include any digital representation of value recorded on a blockchain, including Bitcoin and other cryptocurrencies, Stablecoins, and NFTs. 

“Digital asset brokers” includes any entities that provide services that facilitate sales of digital assets and that would typically know or be in a position to know the identities of the parties involved in such sales. This includes digital asset trading platforms, payment processors, and many digital wallet providers.

The IRS scheduled the reporting rules to go into effect in two stages: For the 2025 tax year, brokers must report the gross proceeds of digital asset sales. For 2026 and later, brokers must report the adjusted basis and whether any gains or losses are short-term or long-term. Brokers do not have to report digital asset sales for tax years 2023 and 2024.

When the reporting requirements take effect, the IRS estimates that it will receive eight billion new Form 1099-DAs each year filed on behalf of 13 million to 16 million taxpayers.

Receiving Form 1099-DA should make your life easier when you file your tax return. You can rely on the gains and losses reported on the form when you complete your return. 

The new rules will also enable the IRS to compare the amounts reported on Form 1099-DA with the numbers taxpayers report on their returns. If there is a discrepancy, the IRS system will automatically send you a notice to correct your error. So, the days of evading tax on crypto transactions may soon be over.

The proposed regulations are not set in stone. There could be more changes before those rules go into effect.

Please feel free to contact me with any questions.

Cell (909) 261-9185

Email: genahester@verizon.net